INVESTMENT FOCUS-Smaller miners more exposed to crisis

Reuters Staff

4 Min Read

* Small, mid-cap miners face deep output cuts

* Mining giants better equipped to tackle crisis

* Profit margins hover near record lows

By Atul Prakash

LONDON, Sept 25 (Reuters) - Investors in smaller mining companies are likely to suffer further losses as the recent plunge in commodities prices to multi-year lows pushes some firms to the brink of extinction.

Without the heft of a Glencore, which has suspended dividends, issued new shares and plans asset sales to cut debt after its share price plunged 60 percent in three months, smaller players may struggle to raise new funds.

That has prompted some analysts to advise investors to stay away from the sector, even though they say a rebalancing of demand and supply could underpin metals prices and improve the prospects of basic resources companies in the longer term.

“The market has to adjust so demand and supply come back into balance. Current developments in commodity prices suggest that it is going to happen faster than people had expected,” said Tom Gidley-Kitchin, mining analyst at Charles Stanley.

“Smaller miners tend to get lower quality assets and lower margins and are more focused on exploration than mining. That’s not something people are interested in funding at the moment.”

Shares in small-cap company Lonmin, once a FTSE 100 constituent, have sunk nearly 90 percent this year, while First Quantum Minerals has lost about two-thirds of its share price as investors fret about their earnings and margins.

In contrast, global diversified mining giants like Rio Tinto and BHP Billiton are down around 20 percent. They have outperformed Glencore, whose shares plunged to an all-time low on Friday despite its more diversified earnings stream from mining and trading.

Earlier this month, Oracle Mining defaulted on some loan agreement covenants, while Incwala Platinum got some funds from WPL to meet covenants and other obligations.

As tanking commodity prices hit profit margins, smaller players’ reliance mainly on single commodities and heavy dependence on lending are making life even harder for them, analysts said.

According to Thomson Reuters Datastream, profit margins of European miners have been hovering near record lows, having fallen to about 11 percent from 17 percent at the start of the year and from a high of 45 percent in 2011.

“It’s not a good time to get back into the sector. As long as commodity prices stay weak and economic concerns remain there, I don’t think investors should include miners in their portfolios,” Christian Stocker, strategist at UniCredit, said.

Gidley-Kitchin of Charles Stanley also said it was too risky at this stage to add holdings in the sector as earnings were going to take a lot of time to recover, but added that large-cap players had relatively better prospects.

SUPPLY DESTRUCTION

Didier Duret, global chief investment officer at ABN AMRO Private Banking, which manages about $500 billion, said there would be a lot of “supply destruction”.

“This is a very unfavourable environment for smaller players for sure. Some mining companies are going to be bankrupt.”

Some early-stage mining companies hit particularly hard by the plunge in metals prices -- copper is at a six-year low -- are shifting away from exploration and starting new ventures ranging from exporting eggs to medical marijuana farming.

These firms typically find the deposits that larger miners acquire and develop into mines. Their search for alternative ventures has given rise to concerns that when prices eventually rebound, there will be fewer junior miners and a reduced pool of new mine prospects.

“If you are not working on the 100 percent capacity, there is really not a point in running them at all,” Liberum mining analyst Benjamin Davis said. “It’s not a case of pulling back. It’s either full steam ahead or not at all.”

Earlier this month, Goldcorp cut its 2015 production forecast for its newest mine, the Eleonore gold mine in Quebec, while in July, Canadian miner Teck Resources said it needed to cut another 10 million tonnes of production.